- What are CFD trading and spread betting?
- What is the difference between spread betting and CFD trading?
- How CFDs work
- How spread betting works
- Spread betting vs CFD trading: which is best for me?
- Examples of CFDs and spread bets
What are CFD trading and spread betting?
CFD trading and spread betting are financial derivatives – which means they enable you to take your position on markets without ever owning the underlying asset. For example, you can use them both to go long on Tesla shares, and you won’t need to buy any Tesla stock.
This means that CFDs and spread bets come with lots of similar benefits:
- They give you access to leverage, so you can open positions without paying for their full value upfront
- You can sell markets to open short positions. These will earn a profit if the market falls in value, but a loss if they rise
- You’ll pay less tax than traditional investing – although tax works differently with each product
- Using a single account, you can trade thousands of global markets, including shares, indices, forex and commodities
However, while they appear similar, CFD trading and spread betting are both unique products. Before you choose which one is best for you, you’ll want to learn what makes them different.
What is the difference between spread betting and CFD trading?
The main difference between spread betting and CFD trading is in how they work. CFDs use contracts, a little bit like futures or options; spread bets use bets. Let’s take a look at each in more detail.
How CFDs work
CFDs work using contracts between a buyer and a seller. The contract enables you to exchange the difference in a financial market’s price from when you open your position to when you close it. Hence the name: contracts for difference.
For example, say you buy one FTSE 100 CFD from City Index at 7250, then sell it at 6300. We (the seller) will pay you (the buyer) the difference in the market’s price. In this case, the FTSE has moved up 50 points, so you earn £50. If the FTSE had fallen 50 points, you’d lose £50.
If you wanted to short the FTSE, then you can sell contracts at the outset. With this trade, you are the seller and City Index is the buyer – so you pay us the difference in the index’s price. If you sell one FTSE CFD and the index falls 50 points, you make £50. You’d lose £1 for every point that the FTSE gains.
To set the size of your position, you choose how many contracts to buy or sell. The more contracts you trade, the bigger your position. If you buy 500 FTSE CFDs, for instance, then you’ll make £25,000 if the index rises 50 points – but lose £25,000 if it falls by that much.
Learn more about how CFD trading works.
How to start trading CFDs
To buy or sell contracts for difference, you’ll need a CFD account. Opening one costs nothing and usually takes minutes.
How spread betting works
Spread betting, on the other hand, works using bets of a certain number of pounds per point. Like CFDs, you buy a market to open a long position or sell it to go short. But instead of buying or selling contracts, you’re making a bet on the direction in which your asset will move.
You could, for instance, bet £5 per point that EUR/USD will go up. Then, for every point that EUR/USD rises, you make £5. For every point it falls, you lose £5.
As with CFDs, you only realise that profit or loss when you close your position. If EUR/USD has risen 30 points since you opened your trade, you’d make £150. If EUR/USD falls 30 points, you lose £150.
To go short, you just bet that your chosen market will fall instead of rise. And you set the size of your position in pounds per point.
Spread betting vs CFD trading: which is best for me?
As you can probably see, the outcome from a CFD trade or a spread bet is largely the same. Buying one FTSE CFD gives you the same exposure as betting £1 per point that the FTSE will rise.
However, because they work differently, each has a few unique benefits that might appeal to you.
Benefits of CFDs
1. Similarity to underlying markets
CFDs are designed to mimic trading the underlying market. Buying an Amazon CFD, for example, is the equivalent to buying a single Amazon share. You’ll pay commission on the position, just like trading with a stockbroker.
So if you’re used to traditional investing in markets, then you might find CFDs more familiar than spread bets.
One popular use for CFDs is hedging, where you use a CFD position to offset potential losses in your investment portfolio. Say that you own 500 Amazon shares but are worried about an impending bear market. You could short 500 Amazon CFDs, which would then earn an equivalent profit to the loss in your portfolio.
Without CFDs, you may have had to sell your stock to avoid taking the loss.
3. No stamp duty
When you trade a CFD, you never own the underlying asset. Because of this, CFD trading is exempt from stamp duty – which can mean significant tax savings in the UK.
You will, however, still have to pay capital gains tax (CGT) on any profits you make. Tax laws are subject to change.*
Do I have to choose between CFDs and spread betting?
You don't have to only trade CFDs or spread bet - you can use both in a single platform. To take advantage of the benefits of each, simply select both 'CFDs' and 'spread betting' when you open your City Index account.
Benefits of spread betting
1. No stamp duty or CGT
CFDs might be free from stamp duty, but spread betting takes it one step further. You won’t have to pay stamp duty on any of your positions, or capital gains tax on your profits – making spread betting tax free in the UK.*
As ever, tax laws can change and may differ due to your specific circumstances.
2. No commissions
You pay to open and close a spread betting position via the spread, which is the difference between a market’s buy and sell prices. There are no commissions on any markets, so the prices you see on the platform are what you’ll pay.
With CFDs, you’ll pay commission on shares trades. Every other CFD market is also commission free.
3. Trade global markets in sterling
As we’ve covered, to open a spread bet you bet a certain number of pounds per point on the direction in which a market is headed. Because you're betting in pounds, your profit will be in pound sterling, whichever market you’re trading.
As well as making it simpler to calculate your profit or loss, this means you never have to convert any currency – whether you're buying or selling Amazon, EUR/USD or the Nikkei 100.
Spread bet and CFD example
To see the difference between how spread betting and CFD trading work in a bit more detail, let’s take a look at an example on City Index’s market for the Dow Jones: Wall Street.
CFD trading on the Dow Jones
Wall Street is trading at a sell/buy price of 31,779/31,780. You think the index will go up, so you decide to buy five Wall Street CFDs at 31,780. As this isn’t an equity, you don’t need to pay commission on the position.
Your prediction proves correct, and Wall Street moves 20 points in your favour to 31,799/31,800. You decide to close the trade at 31,800 by selling your five Wall Street CFDs.
The difference between the opening and closing prices of your position is 20. Multiplied by your 5 CFDs, your total profit is $100.
Spread betting on the Dow Jones
Now let’s see how that same trade would work with spread betting.
Wall Street is trading at 31,779/31,780. You think the index will go up and decide to go long (buy) £5 per point at 31,780.
To close your position at 31,800, you need to sell £5 per point. This nets off your exposure and closes the trade. The market has moved up 20 points, and you earn £5 for every point it rises – a total profit of £100. Note that your profit is in pounds here, not dollars.
With either trade, you would have made a loss if the market had fallen instead of rising.
How to start CFD trading
- Open a live account to trade CFDs with real money or a demo account to trade risk free
- Choose the CFD instrument you want to trade, like Gold or UK 100. CFDs are available in a vast range of global markets, including indices, forex, commodities, and shares
- You buy (go long) if you think the price will rise or sell (go short) if you believe it will fall. To select the size of your position, choose a number of contracts to trade
* Spread betting and CFD trading are exempt from UK stamp duty. Spread betting is also exempt from UK Capital Gains Tax. However, tax laws are subject to change and depend on individual circumstances. Please seek independent advice if necessary.